What will 2025 hold for investors?

Why US role as chief driver of growth may expand further

The first half of the 2020s has been characterised by the pandemic, geopolitical tensions in Europe and the Middle-East, some major political shifts and a global energy crisis leading to a significant bout of inflation.  

As a result it has been a volatile time for the global economy and financial markets.

While 2024 has been a year of stabilisation, with inflation and interest rates finally easing and economic growth proving to be more resilient than expected – factors that helped to deliver a stellar return for those investing in US equities – headwinds remain, Kate Morrissey, head of asset allocation at Evelyn Partners, cautions.

Inflation risks are back on the agenda, government debt levels and simmering geopolitical tensions are still a cause for concern. 

US exceptionalism

Morrissey says: “As we now embark on the second half of the decade, 2025 promises to be another year of change, with plenty of twists and turns along the way, not least with the return of Donald Trump as president in January following his resounding win in November’s US election.  

“His presidency will mark a decisive shift in US policymaking, with many of his policies diametrically opposed to those of the outgoing Biden administration. These, and other changes, will reverberate across the global economy, with important implications for financial markets.”  

Looking ahead to 2025, there is a fairly positive investment sentiment towards market equities as the outlook for US earnings growth remains strong.

A likely broadening in tech and AI winners also provides a basis for stock market performance. 

Peter Branner, chief investment officer at Abrdn, says: “Moving into 2025 there is significant uncertainty about the precise contours of the coming policy shifts under president-elect Donald Trump. 

“There is a substantial risk that the Trump administration proves much more disruptive than we are expecting, both to the upside and downside in terms of economic and market outcomes.

"And there are scenarios in which Trump’s policy agenda proves even more supportive for growth and market sentiment.

“We expect continued strong US GDP growth in 2025 driven by a cooling but still solid labour market and strong corporate profitability, and slightly stronger growth in 2026 boosted by tax cuts and deregulation.

“Against this backdrop, we’re positive on developed market equities as the outlook for US earnings growth remains strong, and we continue to upgrade our positive position on property as the market turns up from the bottom of the cycle.

"We are modestly positive on emerging markets in anticipation of more China stimulus and have identified opportunities in select emerging markets that can benefit from shifting patterns of globalisation.”

Morrissey agrees that the strength and vibrancy of the US economy, along with innovation in the tech sector, have driven company earnings and valuations higher.  

She adds: “We believe US exceptionalism is likely to continue under the incoming Trump administration. It is well known that Trump views the US stock market as one of the most important barometers of economic performance and, as such, he will look to implement supportive policies. 

“This includes maintaining or even reducing an already low level of corporate taxation. He is also expected to slash bureaucratic red tape which could facilitate greater innovation and efficiency with a resulting boost in productivity.”

Saying that, Morrissey notes that US exceptionalism also comes at a cost, as investors are starting to consider some of the multiples in the market rather demanding, with a high percentage of the overall valuation concentrated in a handful of names.  

Additionally, a big risk to Trump’s much advertised economic stance is that he follows through on some of his more extreme commitments from the election campaign, including sizeable tariffs on Chinese imports and the deportation of millions of undocumented migrants.

Morrissey says: “Such steps are likely to have a negative impact on growth and would put upward pressure on prices.”

Abrdn’s Branner agrees that elevated US equity valuations bring risks, with the valuation gap between US and European stocks now at a record high. 

“This keeps positioning sizing still relatively small,” he adds. “There are several risks to this outlook, including from US trade, immigration and fiscal policy; Chinese growth and the stimulus response; and various political and geopolitical flashpoints.”

Expected global growth

With global growth set to accelerate over the next 12 months, companies have an opportunity to deliver strong earnings, Morrissey says.

She also notes that the bar for outperformance has been raised, because consensus expectations are for earnings per share for companies globally in the MSCI benchmark to grow 12 per cent in 2025, 3 percentage points higher than the expectations for 2024.

US-listed companies are expected to drive this, with US earnings growth expected to top 14 per cent. 

In recent years, strong corporate performance in the US has been led by the Magnificent Seven – Nvidia, Microsoft, Alphabet (the parent owner of Google), Meta, Amazon, Apple, and Tesla - who delivered very strong annual earnings growth – 30 per cent higher than the rest of the S&P combined – during 2023 and 2024.

In 2025, earnings are expected to broaden out; with analysts estimating – according to Morrissey – 18 per cent earnings growth for the Magnificent Seven, compared with 12 per cent for the remainder of the S&P 500.

And while the Magnificent Seven is still expected to outperform on earnings, the gap is far narrower than in recent years, which presents opportunities for smaller to mid-cap equities.

Chris Crawford, Managing Partner at Crawford Fund Management, says: “The dominance of the Magnificent Seven is expected to fade as embedded extreme expectations, and the sheer size of these companies, constrain performance. 

“Small and mid-cap equities, which have fallen behind in the last few years, should grow and attract more attention from investors.”

On the campaign trail, Trump mooted a blanket 20 per cent tariff on all imports into the US. 

Trade tariffs favour domestic businesses over international conglomerates, and smaller companies are usually more domestically focused, although investing in them carries more risk.

Trump has also proposed cuts to cut corporate taxes, which Emma Wall, head of platform investments, Hargreaves Lansdown, says is positive for companies’ earnings – and therefore could be beneficial to stock prices.

Abrdn’s Branner says: “Forthcoming shifts in US policy bring uncertainty, but are likely to disproportionately benefit US firms, and small caps in particular.

"The deregulation agenda pursued by the Trump administration is likely to see the Federal Trade Commission make M&A activity easier, while relaxing bank capital regulations and granting more energy exploration permits. 

“Corporate tax cuts will tend to benefit smaller companies most, while by contrast tariffs will disproportionately hit internationally exposed firms.”

Emerging markets

Across the emerging markets complex, there can be both winners and losers from US trade policy, as some of the most vulnerable countries – such as Mexico and Vietnam – are best placed to gain from reshoring if the US does pursue rapid decoupling from China, Morrissey says.

She adds: “Chinese growth does appear to be recovering somewhat, heading into 2025, and further policy easing is likely. With valuations low, the asset class provides an attractive option on the possibility of China delivering significantly more policy easing. 

“Abrdn thinks further easing is necessary to offset both internal headwinds from the property sector and low inflation and external headwinds from US trade policy.

“A stronger dollar and global trade uncertainty are likely to be headwinds to emerging market debt, slowing the pace of EM rate cuts even as inflation is gradually returning to target.”

Additionally, Bola Onifade, portfolio manager at Nutmeg, says the prospect of tariffs and retaliatory counter-tariffs by China is likely to unsettle emerging markets overall, as they get caught in the crossfire of potentially lower trade volumes and weaker sentiment. 

"Emerging market central banks may be hindered by slowing US rate cuts. This is because slower rate cuts in the US may result in US dollar strength, which is typically problematic for emerging market economies.”

UK vs Europe

Elsewhere, according to investment managers, the UK is in a better position than Europe going into next year.

Scott Gardner, an investment strategist at Nutmeg, says: “During 2024, inflation cooled on both sides of the English Channel, but economic growth remained sluggish due to aggressive policy tightening by central banks in 2023. 

“With inflation now sufficiently under control, the European Central Bank and the Bank of England are beginning to ease interest rates. Looking ahead to 2025, the UK appears to be in a relatively better position than Europe, thanks to consumption and trade.”

The robustness of the US economy versus that of Europe was clearly demonstrated by November’s purchasing manager indices. 

The US indices for industry and the service sector climbed, while in Europe they fell. The US index for industry is below 50, as are the indices in the eurozone and UK, but at a higher level. 

According to Joost van Leenders, senior investment strategist at Van Lanschot Kempen, the level of 43 noted in Germany and France is particularly worrying, while the difference is even “more obvious” in the service sector. 

He says: “The US index climbed to 57, its highest level since March 2022. In the UK the index dropped back to 50.8 and in the Eurozone to 49.5. The optimism seen earlier this year has now dissipated.

“There are two sides to the eurozone economy. Family incomes are growing, savings are high and unemployment is low by European standards. Consumer confidence declined in November but has improved greatly since the low in 2022. 

"When adjusted for inflation, retail sales were up by 2.8 per cent in September compared to the same month a year earlier, the strongest upturn since the recovery from the coronavirus pandemic in 2022. 

“This is in contrast to the malaise in industry, where confidence at businesses is low, production is decreasing and orders are dwindling. This is also affecting corporate investment, which was lower in the first half of 2024. On balance, we anticipate moderate positive growth in the eurozone for 2025.”

On fixed income, investment managers are bullish on bonds. Saying that, it would be wise for investors to manage their expectations on rate cuts, in what will be a “higher for longer era”. 

Hall points to the warnings from the Federal Reserve and the Bank of England that cuts will be slow to come and cautiously applied.

"Inflation is after all not conquered yet, and a number of incoming US President Donald Trump’s policies are likely to be inflationary too," Hall adds.

“But with the 10-year Gilt and US Treasury yields both still above 4 per cent, bonds are still as attractive to us as they were earlier in 2024. Taking a long-term view, yields could fall to below 4 per cent in future. 

“By looking at bonds now, there is potential for capital gains in the future, as well as being rewarded with inflation-beating income in the near term, and the potential to diversify portfolios.”

According to a recent note by Capital Group, bonds are reestablishing their role as a stabilising force, while economic tailwinds will support corporate and high-yield bonds.

Tim Ng, portfolio manager at Capital Group says: “The Federal Reserve is focused on supporting labor markets now that inflation is near target. All else equal, lower policy rates should be positive for risk markets and the economy. Bonds are in a position to offer diversification benefits again.”

David Daigle, fixed income portfolio manager at Capital Group, adds: “Although there are weak spots emerging, Fed rate cuts may help mitigate the pace of a potential economic slowdown. I think economic growth may slow a year from today, so it’s important to identify which businesses could be most impacted.”

On the overall outlook for global markets next year, James McManus, chief investment officer at Nutmeg, says that currently, the imperfect global balancing act remains intact and is driving markets forwards, but cautions against investors falling into the trap of blind optimism. 

He adds: “While many of the building blocks that made markets optimistic this year still ring true, we cannot forget current market challenges. Large valuations cannot be ignored, the geopolitical environment remains uncertain globally, and the return of Donald Trump to the White House could elevate instability.”